FMV's Hoffman reveals unique aspects of highly-contested Ludwick case

A Tax Court case usually has a large dollar amount at stake or a divisive issue, and Ludwick v. Commissioner (reported in last week’s special edition BVWire™) tackled the long-contested application of valuation discounts to undivided half-interests in real property. “What made this case unique—and what certainly contributed to it reaching Judge Halpern—was a Tenancy in Common (TIC) agreement,” reveals Carsten Hoffman (FMV Opinions, Inc.), expert for the taxpayers. In particular, this TIC prohibited the co-tenants from partitioning the property but gave them the right to sell their undivided interest to each other; or, alternatively, to sell the entire property. In his analysis, Hoffman gave the waiver-of-petition right precedence while the IRS expert favored the forced-sale aspect, but without discussing the TIC. “Judge Halpern appears to have equated the forced-sale provision to a partition right, thereby giving each co-tenant the unrestricted right to force a judicial partition of the property,” Hoffman says.

Moreover, an investor’s ability to sell their interest to the other investors or to sell the entire property prompted the Judge to assume “a virtually risk-free liquidity option for the investor,” Hoffman adds. Yet, under either scenario, investors would have to forego the enjoyment of a luxury home without being able replicate the existing benefits at one-half the cost—factors that “could significantly increase the likelihood of a vigorously contested process,” Hoffman says.

Hoffman’s summary of this new and somewhat unclear decision:

Having read the decision many times, it remains unclear whether the court’s focus on the relatively minor costs associated with an uncontested sale of the property is a consequence of the TIC Agreement, or of a new line of thinking put forth by Judge Halpern for any undivided interest valuation in which a co-tenant retains the right to force a partition. It seems unfortunate that, on the heels of several decisions emphasizing the importance of transactional data over sole reliance on the cost-to-partition approach, this decision gives little weight to illiquidity considerations [such as] lack of control and lack of marketability. Instead, it focuses on a best-case scenario between cooperative investors. Although much can be said about the shortcomings of a partition approach, one sure way to avoid the argument is to have an iron-clad waiver of the right to partition.

Read Hoffman’s excellent summary and analysis of Ludwick v. Commissioner. And let us know if this case changes how you’ll be approaching and analyzing fractional interests in real property in the future. Comments to the editor welcome, as always.